Q2 2023 8x8 Inc Earnings Call
Our results to vary materially from forward looking statements as described in our risk factors in our report filed with the SEC.
Any forward looking statements made on this call and in the presentation slides reflect our analysis as of today and we have no plans or obligation to update them certain financial measures that will be discussed on this call together with year over year comparisons in some cases were not prepared in accordance with U S. Generally accepted accounting principles or GAAP a wreck.
Conciliation of those non-GAAP measures to the closest comparable GAAP measures is provided in the earnings press release and earnings presentation slides, which are available on <unk> Investor Relations website at investors Dot eight X eight dot com with that I will turn the call over to our CEO Dave Sipes.
Thank you Kate good afternoon, everyone and thank you for joining us today on the call today I will review, our second quarter results and provide an update on our plan for fiscal year 2023, as we place greater emphasis on profitability and cash flow generation. We believe that this is the right strategy to deliver value to our stakeholders.
<unk> employees and shareholders and that is reflected in our increased operating margin guidance range for the year.
We delivered another solid quarter delivering revenue in line with our guidance and non-GAAP profits and operating cash flow above expectations. Our continued emphasis on operational efficiency as well as a favorable mix of higher margin ex cats revenue resulted in higher gross profit second.
Second quarter non-GAAP gross margin was above 70% and service gross margin was about 74% both were up nearly five points in the last year.
We have demonstrated sequential improvements in our gross margin performance for both service and total revenue in every quarter since Q3, 2021, and non-GAAP gross profit on a dollar basis increased 35% year over year the.
Fuze acquisition continues to outperform our expectations and was accretive to operating margin. This quarter. We also strengthened our already solid financial foundation by refinancing over 80% of our convertible notes due in 2024 and a transaction that increases our flexibility to delever the company as our cash flow.
<unk> increase.
We remain committed to our strategy of empowering every employee through integrated contact center and unified communications in the cloud delivering outstanding customer experiences at a lower overall total cost of ownership.
We reinforced this commitment by increasing our investments in innovation and repurchasing $10 7 million shares of our common stock the quality of our <unk> remains high with enterprise are growing more than 40% year over year and accounting for 58% of total IRR.
<unk> continues to grow at approximately 40% year over year and increased as a percentage of total IRR as customers add contact center functionality to their <unk> deployments.
Ex cash accounts for more than 35% of our IRR and we see an opportunity to grow this percentage materially as we continue to innovate on the <unk> platform with features designed for our targeted enterprise customer base.
Progress in our strategic enterprise <unk> business was partially offset by continued challenges in our <unk> business.
We believe this business has been impacted by a combination of currency fluctuations and macro economic headwinds. We are focused on stabilizing this business and continue to add new customers with innovative use cases like Ses home services.
<unk> provides professional and reliable home emergency support using <unk> video interaction solution to enable agents to provide remote support reducing operational time and costs.
On the plus side small business grew modestly on a sequential basis the stabilization in small business <unk>. This quarter reflected good retention and up sell and our commercial sectors in both the U S and U K driven by our efforts to improve efficiency and focus on customer satisfaction.
On our last call, we increased our operating margin guidance for the current fiscal year to 2% to 3% and said we had line of sight to doubling operating margin in fiscal year 'twenty. Four we are once again, increasing our operating margin guidance for the current year, we now expect to deliver non-GAAP operating margins above 5%.
This year, we believe we can achieve these targets through increased efficiency in our cost structure, particularly sales and marketing and have taken steps to rationalize some of our spend across the company as Sam will discuss in greater detail. We expect these steps combined with an increased mix of higher margin ex cat busy.
<unk>.
Will allow us to exit this year at or above six 5% operating margin.
Further we have demonstrated our ability to expand margins and now believe we have a line of sight to achieve double digit operating margin in fiscal year 'twenty four.
Our unified ex cast platform remains a competitive advantage for us and disadvantages only amplified in a more cautious spending environment recent research from Metro G showed that organizations deploying a unified solution achieved a 56% lower total cost of ownership versus.
A multi vendor strategy.
Casey is the third largest convenience store chain in the United States with more than 2400 locations in 16 States as an example of a customer migrating to the cloud to reduce total cost of ownership. The company is moving all stores to the cloud with 5008 by Ucas seats to replace.
Costly traditional phone lines.
We continue to deliver advanced features that allow our customers to improve their employees and customers experiences.
We recently released an update to the API ex gas platform that extended our global coverage to 56 countries and enhanced our omnichannel customer experience analytics, featuring new visual interaction flow diagrams enhanced reporting into digital interactions and new advanced search.
And filter capabilities.
Our <unk> platform continues to be broadly deployed across a range of industry verticals and geographic regions recent customer wins included Medline, a leading health care manufacturer distributor and solutions provider with over 30000 employees worldwide with businesses and more.
125 countries and territories.
<unk> line is moving to the cloud with AI initially to support over 2500 employees on an easy to administer global unified platform.
Spectrum vision partners is a leading management services organization, serving ophthalmology practices and ambulatory surgery centers throughout the mid Atlantic and New England regions.
Backstrom selected API ex cash to support employee and customer engagement for its contact center and clinics.
Prepay power Ireland's first dedicated prepaid energy supplier of pay as you go energy with over 250000 customers working with partner work are they chose API ex cats to support employees and a 300 agent contact center that will enable them to scale.
L gained business insights and serve their fast growing customer base.
The availability of contact center functionality, such as conversation IQ is driving expanded deployments with <unk> customers.
An example is L S H auto U K.
They have eight Mercedes Benz AMG, EQ and smart dealerships across.
The Midlands and northwest Ellis H U K turned to AIA ex cash for a single Ucas and <unk> solution to support the employee and customer experience across their dealerships.
This past quarter, Alex H added eight by a conversational IQ to 20% of their UC users to drive improvements in the sales teams interactions with customers.
Our global reach and rich feature set continues to be important competitive differentiators with customers adopting teams as their collaboration platform. In Q2, we added a new API phone app for Microsoft teams, providing customers with additional options for enabling cost effective.
Dan calling within teams.
We continue to build momentum in our API voice routine solution customers choosing a bite voice for teams in Q2 included a.
A worldwide holiday tour, operator recently acquired an existing <unk> customer in the U S. The company evaluated a buyout ex gas and decided to transition its entire global organization to <unk> Cas with voice for Microsoft teams to manage communications and customer engagement from a single platform.
Delek.
A downstream energy company with assets in petroleum refining logistics asphalt renewable fuels and convenience store retailing they.
Turn to API, you cast with voice for Microsoft teams to strengthen security compliance and support global communications for more than 2500 users.
Miller's Ale House is a sports themed casual dining restaurant with almost 100 locations in 10 states. Following a proof of concept trial, a fast growing chain chose a bite you cast with voice for Microsoft teams to deploy at their Florida headquarters and all restaurants to enhance the overall customer and employee.
<unk>.
We continue to expand our relationship with Microsoft Modern work solutions partners through our API elevate partner program.
This quarter, we added three new partners, including cloud Revolution, a Microsoft 2022 partner of the year finalist cyclotron, a 2020 U S top Microsoft 365 teams partner Award winner and Apex Digital solutions also in advanced Microsoft partner.
Specialized and Microsoft teams, calling to our program, we continue to invest in channel with our co marketing training and lead sharing initiatives.
Cross sell of <unk> to existing <unk> customers is an important aspect of our growth strategy as we expand our enterprise customer base, including teams users as one of the first partners to achieve Microsoft certification for integrated contact Center. We are in the early days of land and expand.
Cross sell into our enterprise customer base and a recent example university of Bristol in the UK expanded its AIA ex cast with voice for Microsoft teams deployment by adding 25% more C cap seats. Following the successful delivery of phase one of the project.
We believe the next wave of cloud migration is contact center. This was reinforced at last weeks Gartner Symposium, where our booth was crowded with prospects asking about our contact center solution. We are investing more than two thirds of our R&D and contact center ex cat innovations like front desk.
Agent workspace and conversation IQ differentiate our solution and increase our ability to win with enterprise customers.
It is clear that product innovation is a core value for us and we are maintaining our investments to deliver a greater customer experience, even as we focus on higher margins I remain confident in the past a by Amazon and I look forward to giving you an update on our next call.
Before handing the call over to Sam I want to thank our teammates at <unk> for their hard work and commitment I also want to welcome Janet Winters, our new Chief Human Resource Officer.
Sam.
Thanks, Dave and good afternoon, we remained a financially agile and disciplined organization that delivered solid results for the second fiscal quarter. We did experience continued challenges in our Cps business and foreign currency headwinds were strong both of which impacted service revenue performance, we are going to make some adjustments in guidance based mainly on.
Foreign exchange in spite of these challenges revenue was in our guidance range and we continue to post broad improvements in gross margin delivered solid operating income and another quarter of positive cash from operations.
Total revenue for the quarter was $187 $4 million, an increase of 24% year over year and inside of our $185 million to $188 million guidance.
We generated $178 6 million in service revenue, an increase of 25% year over year and again in line with our 177% to $180 million guidance range.
<unk> business did not bounce back as hoped with a sequential decline for the third quarter in a row, but we are seeing signs of stabilization the endpoint supply chain improved and this helped other revenue the strengthening dollar, especially versus the pound sterling negatively impacted total revenue by about $1 million for the quarter fuze.
Counted for $27 $9 million of service revenue and $28 4 million of total revenue service revenue from fuze was in line with expectations and retention remained solid.
Fuze continues to do better than we had modeled when we closed the deal 10 months ago.
<unk> was accretive to non-GAAP operating income again, this quarter and contributed to over performance relative to operating margin expectations.
We committed to remaining non-GAAP profitable post acquisition and so far so good.
As an example, we have raised fuze as non-GAAP gross margin percentage from the high <unk> to the mid seventies.
Total <unk> was $692 million at quarters end of 25% year over year.
As we stated in our prior earnings calls, we will not be breaking out fuze from API separately for our reporting but will continue to give you visibility into fuze contribution to reported revenue enterprise.
Enterprise customers accounted for 58% of total IRR and enterprise IRR was up 42% year over year mid.
Mid market was 18% of IRR and grew 23% year over year and small business was flattish sequentially at 24% of IRR and declined 2% year over year growing our enterprise business is one of the core tenants of our long term strategy due to the customer's longer commitments higher retention better efficiency ratios.
Turning to expenses remember that all expense items discussed are non-GAAP unless otherwise noted.
Service revenue gross margin came in at 74, 1% an increase of 470 basis points from Q2, 'twenty, two and 70 basis points sequentially driven by continued Cogs improvement programs, which drove down unit costs and to a lesser extent lower C pass revenue.
Other revenue gross margin came in at minus 11, 2% for the quarter compared with negative $35. Two in the first quarter of 2003 and negative 16, 6% in a year ago quarter overall second quarter gross margin was 71% up nearly 600 basis points year over year and up 150.
The basis points sequentially.
Turning to first quarter operating expenses. This is our third combined quarter with fuze R&D stepped up to 50% of revenue, where we want it we showed some leverage on sales and marketing and took a step back and G&A. The increased cost in G&A were mainly driven by several nonrecurring items that should improve over the next several quarters total.
non-GAAP spending as measured by Cogs, plus R&D, plus sales and marketing plus G&A was up approximately 19% year over year below our 24% total revenue growth.
In early October we made the very tough decision to reduce our total head count while it impacted less than 10% of our total employees, we have factored the applicable employee related cost savings into our non-GAAP guidance, and we expect some onetime severance and restructuring costs in our third quarter cash flow and GAAP results.
non-GAAP operating profit was $9 $1 million up 350% from a year ago, but down approximately $1 million on a sequential basis. As a reminder, the first quarter operating income of $10 $1 million included approximately $3 million in one time benefits.
Turning to the balance sheet total cash cash equivalents and restricted cash ended the second quarter at approximately $132 million compared with approximately $143 million last quarter and $146 million four a year ago ended March 31, 2022 restricted cash was down to $1 3 million.
So we will just report a single number in future quarters with this cash balance and future expected cash flow, we see no current issues with repaying the 2024 debt.
During the quarter, we made significant progress adjusting our balance sheet and at the same time took steps to reduce our share count as a quick summary, we did the following in August .
We entered into a term loan credit agreement with Francisco partners as lenders for $250 million aggregate principal amount maturing in August 2027. This is a floating rate loan based on secured overnight financing rate or sofa.
In conjunction with the term loan we issued warrants to Francisco partners to purchase an aggregate $3 1 million shares with a five year term and an exercise price of $7 15.
We exchanged approximately $404 million in aggregate principal amount of all 2024 notes for $202 million aggregate principal amount of new 4% convertible senior notes due in 2028, along with $182 million in cash after giving effect to the exchange the total amount.
Out of old notes outstanding on August 11, 2022 was $96 million.
On September 28, we repurchased another $6 million of par value 2024 notes at 88, 5% for $5 $3 million in cash, bringing the balance down to $90 million at quarters end in conjunction with the exchange, we purchased $10 7 million shares for approximately.
$60 million of our common stock at a price per share of $5 61.
Our <unk> was approximately $715 million for the quarter up from $700 million in the first quarter cash from operations came in at approximately $13 million for the quarter ahead of our expectations. We continue to actively manage cash flow and watch it closely and collections remained solid free cash flow was over $10 million for the.
<unk>, our capex costs have steadily declined as we focused on capital efficiency last quarter. We were clear that we are prioritizing profit and cash flow over growth. We adjusted the financial model Accordingly, with a decrease in revenue, but an increase in operating margin.
This quarter, we're going to raise our exit operating margin target for the fiscal year based on cost savings, but slightly lower our revenue the change in revenue for next quarter and the remainder of the fiscal year is primarily due to changes in foreign exchange.
We generate about a third of our revenue internationally. So the strong dollar hurts our headline revenue numbers from a modeling standpoint, we take the closing months weighted value and run it through the financial model and in September the dollar rallied a lot.
We have a number of natural hedges in place so that on the operating line FX has little impact I cannot stress. This enough while our revenue may change because of FX or operating income and cash flow is little impacted we built it that way for.
For operating expenses, we plan to control sales and marketing spend and we'd like to exit fiscal 'twenty three between 36% and 38% of revenue.
<unk> from 41% four quarters ago.
We plan to focus our R&D efforts on our core product offerings and expect R&D as a percentage of revenue to remain about 15% innovation is key for any software company and for us with a multibillion dollar market opportunity even more so.
We believe continued investment in our customer focused product strategy with emphasis on contact center functionality. These investments will be good ROI.
We are focused post views on getting leverage on the G&A line over the next few quarters as we further integrate the two organizations.
This set of initiatives will drive operating margin higher in the second half of 'twenty three as Dave mentioned, we think we can add more operating margin in fiscal 2004 through continued improvements in unit economics incremental savings in G&A cost containment and improved sales efficiency.
We are establishing the following guidance for third quarter of fiscal 'twenty. Three ended December 31 2022.
We anticipate service revenue to be in a range of $178 million to $180 million essentially flat with the second quarter. This is representing approximately 19% to 21% year over year growth. We expect fuze service revenue contribution will be between 27 and $28 million.
We anticipate total revenue to be in a range of 185 million to $188 million, representing approximately 18% to 20% year over year growth. We expect other revenue to be flat to down slightly compared to Q2 due to less billable days associated with the holidays. We are targeting an operating margin in a range of five.
Five to five 8% for the quarter, we should get a sequential increase on a non-GAAP basis from second quarter's four 8%.
We are updating our guidance for fiscal 2023, ending March 31, 2023 as follows we anticipate service revenue to be in a range of $712 million to $720 million, representing approximately 18% to 20% year over year growth, we have reduced second half 'twenty three revenue performance by approximately <unk> <unk>.
$7 million due to foreign exchange based on the methods stated above the remainder of the decrease is some incremental caution in the Cps business. If FX stays at these rates, we would expect to exit fiscal 2023 with service revenue growth in the mid single digits on a year over year basis.
We anticipate total revenue to be in a range of $745 to $755 million, representing approximately 17% to 18% year over year growth.
We are focused on improving operating margin over time and have a goal of exiting fiscal 'twenty three over six 5% for the fourth quarter and roughly or so five 5% for the fiscal year in closing we believe the increased focus on the operating margin and cash flow is the correct strategy for US right now at the same time, we believe we.
Need to continue to fund our investment in R&D and our contact center product continues to evolve we address a broad market opportunity and the focused product strategy that leverages, our unique advantages of a unified platform global connectivity and leading teams integration.
As we extend these advantages and deliver superior ROI to our customers, we reinforce our strong financial foundation and remain an agile organization and with that operator, we're ready for questions.
Thank you.
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The first question today comes from the line of Mike Latimore from Northland Capital markets. Please go ahead. Your line is now open.
Great. Thank you.
Yes, I guess, just two things here it sounds like the <unk>.
<unk> change in revenue guidance is.
Tied to.
FX, mainly and then see past secondly, I guess.
Can you talk a little bit about just what youre seeing in the international.
Kind of geography.
<unk> is tracking as expected there and then second just in terms of the sales cycle overall in the business have you seen any.
Sales cycles basically the same as you were expecting three months ago.
Alright, I will take the first part and I'll, let Dave take the second part.
So in terms of international business performance I would say, yes, it's generally where we expect in constant currency. It's actually so for example, if you look at our business. It would have been up on a constant currency would have been better on a constant currency basis.
As I tried to highlight in the script basically we.
<unk>.
Particularly the strong dollar in the month of September really had an influence on our revenue performance, but now really influence our op income performance.
International performing well, we love it we love our international businesses.
The revenue number doesn't quite look so good because of the FX effects and to be clear I mean, if you look at our change in guidance almost all of it is due to FX on a go forward basis the.
The <unk> business is stabilizing we kind of have that in the model. It's really we just run the last month on a forward basis and since September was such a <unk>.
Strong dollar a month it just hesitancy as depressed revenues in the back half of the year and then David on income or sales cycles.
Cycles, we are seeing a little more justification requirement from our buyers.
Getting through additional approvals, but we're countering that with our cost of doing nothing.
Analysis, which really demonstrates how our prospects can save money by switching off of on prem into cloud and everyday they fail to do that costs money.
Are we really lay into our tcl advantages.
Getting through those soft cycle additional approvals.
Okay.
Great. Thank you.
Thanks, Mike.
Okay.
Thank you the next.
Question today comes from the line of Matt <unk> from BTG. Please go ahead. Your line is now open.
Hey, good afternoon. Thanks for taking my question I guess first as you look.
Towards towards the channel and how Thats been a driving force in your growth here curious on sort of two pronged here, how does that business shaping up.
Selling <unk> selling kind of the full platform of solutions here and how much is that driving a lot of the contact center growth you've seen and then secondarily on the Microsoft team side.
How do you feel like you're kind of growing there what the offering is and how the elevate program.
Is really driving.
Attention from from your channel partners there.
Yes, So China is obviously an important element of our go to market strategy it's over.
Our new business and our partners have really.
Moved.
Strongly behind our ex cast motion.
And do well and selling the combination contact center UC.
On the team side.
<unk> is an important aspect of what we're doing when I look across our largest new logo wins about half half teams attach.
And we're we're getting good traction there on the channel with our teams specific elevate program, we talked about the three we added this quarter in cloud Revolution in cyclotron and apex. We're also arming those.
That channel and our sellers with more quivers.
More arrows in the quiver, so to speak with our ex tea, SKU, which really gives operator connect type pricing with direct routing type capabilities. So super.
<unk> capabilities.
Right price and the Microsoft phone, App, which give us slightly more cost effective solution for different types of users.
With a different user experience. So we have that we have our direct routing solutions, we have our XT skus.
And it's allowing us to stay competitive in that market. It's obviously driving a lot of business for us and allows our ultimate of connecting contact center users two teams users in an organization. So it really enables the exco so.
Alright, Great and then Sam.
Obviously, you've never never fun to reduce headcount, but curious kind of in the wake of that how youre assessing sort of making sure that those cuts were sort of onetime in deep enough and then as youre looking forward projecting out into next year and beyond.
What are areas that you expect youll continue to add head count.
Versus sort of holding the line to improve that margin as much as you have already thanks.
Alright, I'll take those in reverse order.
So look I mean.
The place, where we bought fused to get more R&D capacity. We are very focused on R&D capacity and we want to continue and as we mentioned in the closing remarks over two thirds of our R&D spend on the contact center. So we're really.
<unk> I.
I don't want analogy, you want to use but a lot of effort Arrow zero one.
Around investing in contact center, and and really focus on that and so that's an area.
Things like sales capacity those can fluctuate a little bit more and I mentioned earlier that we're an agile finance organization. So in terms of head count I think we're sort of right size for what we think is going to happen in the near term and then we'll have to continue to adjust over time, hopefully it add more employees, but we can adjust either way based on what the market conditions are.
Alright, great. Thank you.
Thank you.
The next question today comes from the line of Ryan Macwilliams from Barclays. Please go ahead. Your line is now open.
Thanks for taking the question. So as you think about what a more difficult macro environment could mean for <unk>, but are you seeing reductions in head count within your existing customer base at this point and I know you are less focused on SMB, but would you expect to see continued small business momentum as those deals may be easier to close it.
A period, where the lower total cost of ownership of anybody can resonate.
So I think the first part of it is in the macro economic environment are we seeing fewer employees with our customer base.
You see that occasionally on renewal now remember, we have very well contracted customers being unimpressed software one to three years.
So a lot of that will come.
This economic cycle anyway.
And we do things when we do renew all allowing people to extend contracts and adjust appropriately if they're impacted economically. Additionally, arbitrage funnel some of those.
Users into our cross sell products with contact center conversation IQ and other ways to enhance their current productivity and then the second part of your question Ryan small business small business.
Small business stabilized this quarter, we had an uptick in IRR, we continue to strategically refocus on Midmarket and enterprise customers as they are have stronger contact center needs, but we continue to service.
Both inbound interest in small business.
We continue to service our installed base with great reliability and great customer support so I think youre seeing that.
It's a good sign that that stabilized even in the current macro economic environment.
Yeah, absolutely I also like seeing the new ebay phone App for Microsoft teams, maybe one for Sam as we see more business keep going through this Microsoft teams channel are there any differences to call out on profitability of the <unk> sale.
Versus a traditionally by voice.
I wanted to care for all the answers because obviously a lot of market.
Discussion around this topic so with in terms of the way you phrased the question with profitability, we see the margins as being pretty comparable.
But historically, what we've seen is a lower type of skew lower functionality skew being purchased so in our Microsoft team's environment, we sell a lot more X, one and X twos than we do in our traditional.
Ebay only type of customer, we retail excellence X twos, threes and fours and that's kind of the big difference we see.
Okay.
Any difference in deal sizes, sorry, just one follow up like could there be a larger deal size attached to those teams deployment.
I mean, there are some of them are really big so they can be just as we saw a lot of seats and remember we're selling a lot of contact center when we sell Microsoft teams. So that's kind of the blend thing that blends in and makes us enthusiastic about the Microsoft teams market. So I would say.
So radically different could be it could be higher.
Appreciate the color thanks, guys.
Thank you.
The next question today comes from the line.
City Panic Rohit from Mizuho. Please go ahead. Your line is now open.
Thank you thanks for taking my question.
I just wanted to ask about this enterprise segment, what sort of claims that are you seeing I see a downtick.
Uh huh.
And what sort of visibility you have into the second half of your fiscal year.
Given this macro environment.
Well I mean look I'll take part of this and I'll, let <unk> chime in if he wants to add anything so first off I mean, one of the influences to IRR downtick was FX. So if it wasn't for FX.
Sure.
Have been even stronger quarter on quarter, our enterprise would have been up quarter on quarter.
So and remember I mean, thats, just because FX was a big headwind on those numbers in the month of September .
In terms of visibility in the back half of the year I mean, I wouldn't say, it's substantially different than what we've had in the past we have a deal pipeline we have deal sitting in various sales stages.
And we use that to drive what we think our business performance is going to be so in terms of visibility I think there may be some question of close rates will change substantially which so far not seen any indication of that but in terms of visibility I would say, it's kind of the way it's always been.
Okay, and then you talked about contact center opportunity.
Any trends that you're seeing and.
And how do you differentiate in that contact center market.
Okay.
Yes.
Contact Center is continues to be a core piece of what we do in our ex Cas.
You see that crying almost 40% over 35% of our business. So it continues to create and when I look across our large deal wins, it's a significant contributor across all of US I think we've had some great progression in the product over the last couple of years and reliability, our Asian experience in the.
<unk>, we just announced Tommy just an example on the analytics and it's always been one of our hallmarks best in class voice analytics and now we've thrown in the UX refresh and additional digital journey analytics, we brought that digital analytics up to that same world class level.
And we continue to work we're doing two thirds of our R&D and contact center, so theres going to be some great announcements and supervisor and admin experiences coming up in the coming quarters as well as some of our digital offering so.
We're winning a lot already today and the roadmap is looking.
I am happy with what we've done to date, but I'm Super excited about what I see coming in the works on contact center.
Yes.
That's great color.
One quick follow up if I may you talked about the weakness in the us.
Is it mostly the slowdown in the overall volume or are there any loss of customer what are you seeing on the.
The <unk> side.
It's a little bit of both we have seen a slowdown so carriers have been raising prices and thats made.
Some of the maybe marginal traffic less interesting descend and so we've seen some reduction in the amount of traffic.
And customer two has switched to doing other methods for things like otp and that sort of stuff right. Now we're seeing the business stabilize and our focus is getting the growth rebound back to where it was.
Great. Thank you.
Thank you.
Our next question today comes from the line of Michael <unk> from Wells Fargo Securities. Please go ahead. Your line is now open.
Hey, great. Thanks, I appreciate you taking the questions.
Just on fuze integration there I think there is some commentary just around.
Converting that that base over to the <unk> platform over time is that something that youre still working towards and it's progressing I'm curious if that that all drives some of the gross margin improvements as well.
Or just any any further update you can provide on just the combination of those two basis.
Yes.
I'll take the first half second half but.
We continue to build the coding to make that upgrade and onto the <unk> platform seamless and easy for those customers and I'm happy to say, we anticipate launching that.
The first very first part of the new year and that's on track and so we will have our first set of customers experiencing that seamless upgrade around that.
Calendar, our fiscal year Q4 timeframe, alright, I'll take gross margins. So I think I said this on the last call and if I didn't say it here, we've been able to get fuze gross margins up towards our ucas business faster than expected and so a couple of things are going on here number one is we got fuze up into.
The mid Seventy's now.
And so we are blending our total ucas business as a percentage of the overall business.
<unk> business.
But our communications business relative to the <unk> business is higher and that's driving the overall corporate margins up we have more plans in place to grow gross margins. So I think there were there were $70. One this quarter over 70, we'd like to keep them above 70 on a go forward basis very focused on that and then in general. The addition of fuze gave us more buying.
Power Cory by eight so we have translated some of that into lower costs from our carrier partners I think sometimes the street forgets that we buy probably.
Close to a $100 million of carrier interconnect. So the more volume I can get the better per unit pricing on getting that shows up in gross margins.
Okay that's interesting.
I guess just on the margin in general Theres, clearly a lot of focus there.
What are some of the things you are finding that allow you to keep moving the targets up.
Into next fiscal year and are you feeling good about the continuation of those trends as needed.
Based on what you're finding there so far.
Well I'll take those are virtually I think Dave in his script said that we have line of sight to double our op margins next year. So he has already put has taken the ground for me to go achieve.
And yes, we have line of sight into how to do that.
And then I think it's.
I'd Love to tell you Michael is a single thing, but it's just a lot of blocking and tackling around efficiency. We are very focused right now on being.
Being more efficient I think the offset that you see is a little bit on the revenue growth side right. So.
We've reduced our spending a little bit in sales and marketing some of the more inefficient places we were spending in that area, which may have led to revenue growth, but not necessarily highly efficient revenue growth and be more focused on generating operating margin EBITDA cash flow those types of metrics.
Particularly now that we made our first interest payment on our debt.
The September quarter, and we have future interest payments on a go forward basis. So we want to make sure we cover those with tons of room to clear and tons of room to delever the balance sheet over time, and so I think the offset that you're looking for in terms of we have line of sight to improved operating margins. It just may show up in the less revenue growth than we might have gotten in the past.
Helpful. Thank you.
Thank you.
Thank you.
Next question today comes from the line of Josh Nichols from B. Riley. Please go ahead. Your line is now open.
Yes. Thanks for taking my question clearly the company has been making a very big pivot here.
The debt payments and also the stock at these current levels I guess, if youre going to do double digit operating margins next year could you talk a little bit about what that would translate to for free cash flow and how you might use that between some debt payments of potential stock buybacks.
Okay. So I mean, our capex needs have been declining.
You see we're getting a lot more capital efficient as one of the projects we've been working on for a number of years now and so op margin basically traditional cash flow being cash from operations minus Capex is looking more like cash from operations and so as we drive non-GAAP operating income up we should correspondingly see that so.
The offset being we're looking at single digit revenue growth with.
Double digit op margins attached to it which I think is a positive and gives us if done if it goes as we expect more than enough room to start to Delever. So let's break that second part of the question into a couple of pieces we have.
$132 million in cash we have $90 million of the 2020 fours.
We are generating cash so no problem clearing the 2020 fours and then starting in the second year of our term loan we can.
Repay an extra 10%.
I am sorry, we can pay back 10% of that with no prepayment penalty and then starting in year three on we can prepay or payback.
Our term loans with no payment penalties and stuff.
Right now the company is very focused on generating enough cash to try to hit some of those milestones will clear 2024, no problem and wed like to start prepaying the term loans as quickly as possible. So that we can save on interest at these rates.
Okay.
Thanks, I guess, if I'm just looking at it I mean, roughly $800 million revenue next year based on kind of what you're talking about.
That type of margin that you just mentioned that probably translates to somewhere in the ballpark of about 80 ish.
Our free cash flow, which should applaud you plenty of capital I think to start paying off some of the debt.
And that's with.
I guess I think you mentioned it.
We assume kind of like mid single digit.
Service revenue growth and so that's what you talked about exiting the year with some kind of a long term target is that kind of reasonable.
Guidance that we're thinking about how to build out the model.
I think I think everything you said makes complete sense to me I would put maybe.
For those that are Josh I know you well youre very accounting focused.
So $80 million and let's say operating income roughly of cash from operations number minus a teeny bit of Capex, let's say $10 million at $70 million minus $30 million in interest payments give us gives us maybe $40 million a year per year times five years, we could take $200 million of the $2 50 out we would save a lot of interest along the way so.
Maybe I can squeak out the last $50 million and I think if we did that we might see the stock appreciate enough to convert the 2028 notes and so I think there is a path and it is not a difficult path to almost have this company debt free in five years.
Perfect. Thank you that answers my question.
Thank you.
The next question today comes from the line of meta Marshall from Morgan Stanley . Please go ahead.
Your line is now open.
Hi, Jim This is Eric on for meta thanks for taking our questions I want to go back to the cost side I know a couple of quarters ago. You noted that nearly half of your incremental IRR was coming from contact center can you maybe just give us an update on if that percentage has changed meaningfully at all over the past few quarters.
In either direction.
Can you repeat it incremental half incrementally IRR is coming from ex gas.
From I think the one thing I think a few quarters ago, you had said from contact center and Nu X cost deals.
Or is it.
If you think about the growth that was mentioned in the script and X in X cat half of which is contact center typically and you look at the Standalone, Yes, we're generating.
Do the math and I didn't do it to be fair last night, but.
<unk>.
The thought process, you're going through is not radically wrong.
<unk> portion of our <unk> contact center.
Okay. Thank you that's helpful. And then if we're just thinking about the focus kind of shifting more towards operating margins and in that in the context of fuze product strategy.
Is this plans, though largely the leaves the fuse product does is in gradually upsell contact center or do you see kind of initiatives within fuze too.
So maybe shift from that in any way.
Yes, so we see a big focus on our installed base overall as we do more laser focus on sales and marketing efficiency.
And we've done a lot of improvements both in the product basics in the customer support levels on the few side, we've talked about the coding we're doing for seamless upgrades onto the X series product for those customers will kick off next calendar year end.
That gives us even more opportunity on cross sell of those customers into the contact center.
Got it thank you.
Thank you.
The next question today comes from the line of Catherine <unk> from <unk> Partners. Please go ahead. Your line is now open.
Well. Thank you for taking my question.
With this macro backdrop isn't really good job can you talk about the competitive landscape.
Firstly on contact center with.
Zoom coming out with a contact center you'd get pretty active can you just lay out where you think your opportunities are in terms of seat size or even in terms of which vertical markets might be more attractive.
Yes, so we've been focused on SaaS for almost a couple of years now and doing 70% of our R&D investment into contact center. So we keep strengthening our contact center product.
<unk> more effective and more client pleasing in the market and I think Thats why were winning when we go up.
We're we don't see new entrants as much as existing players in the contact center space and I don't think Thats really changed with entrants you mentioned.
And with our ex gas capability, we bring a lot of advantages over just a standard contact center with everything from unified analytics and administration the reliability SLA as we bring.
The front desk visibility and things like bringing sentiment analysis across all employees and teams. So.
So the things we're doing are differentiated and allow our buyers to have lower total cost of ownership than supporting two separate platforms.
And then are you seeing any pick up with some bias troubles in your opportunities or just your core <unk> business.
There is a lot of buyers that are looking to.
Have moved maybe over to like a teams for collaboration.
Still on historical you see on Prem PBX that are looking to get off and whether thats, Cisco or avaya or other we see a lot of that transition going on and a lot of interest from.
<unk> CIO organizations.
Alright, Thanks, Dave.
Okay. Thank you Catherine.
The next question today comes from the line of George Sutton from Craig Hallum. Please go ahead. Your line is now open.
Thank you I appreciate the details on the Microsoft partner ads in your App I'm wondering if we could talk about Microsoft relative to that friend versus ultimate So argument and I am curious how you look at it we look at about 260 million seats out there and $12 million or so we believe using third party voice.
Just curious if you can address your objectives relative to some of those numbers and relative to Microsoft's own voice objectives.
Yes, I think a huge universe.
Collab users not many currently lit up with voice, but a substantial number when you think of the $12 million.
But we really look at that relative to maybe the 250 $270 million.
Active users on collab and lining those up.
And we see the bulk of that or almost all of it going to either direct routing our operator connect ecosystems. So we havent, leading direct routing solution and by doing things like our <unk> SKU, we become very price competitive with the increased functionality you get from direct routing.
And the phone App helps also I think that universe.
Yeah.
$12 million voice users.
So it can go up very significantly over the next couple of years I think gardeners thinking that you get to 20% penetration of those teams users over a couple of years, which.
It gives you tremendous growth on that $12 million.
And we want to capture a good share of that.
Perfect.
Second for me relative to fuze I don't think anybody on this call would have expected you to that as well with that acquisition as you have done.
Begging the question of there are other businesses out there that could use a better home.
In a consolidating market what is your ultimate objective relative to other M&A.
Yes.
George You made me laugh.
Look I think with the $3 stock price right now it's not the high tide. We are when you were fighting for analogies.
Yes.
So.
It's not the right time to be in the market look if I had when we did fuze, we took out a little debt, which hindsight innovate and then we took out and we use some stock it's not like the stock and our valuation where it's at and I think it's more important to delever the balance sheet and drive cash I don't think its the right time.
I think actually a number of those businesses will really struggle with more fund raising et cetera.
Excuse me and so there may be easier ways to get their customer base I think it's something we always kind of think about and look at but there is a right time and place for it.
Thanks, guys.
Okay.
Next question. The next question comes from the line from Evercore. Please go ahead.
Line is now.
Great guys. Thanks for squeezing me in here, maybe just Dave one for you as.
<unk> segment and contact center as a standalone how are you priced on a seat on seat basis versus competitors, you above or below the mean and then one for you Sam gross margin contact center historically have been call. It $50 $60. If you just look at some of the company is trading today.
How should we model margins for <unk>.
That are going forward.
Okay.
Next on our pricing is very advantageous for our customers I mean, we're a fair price or we're not a premium price or but we give great functionality and capability and we do it with Super high reliability, we do it now over 56 countries. So the largest footprint of any UC cc player when we do that with both UC and.
<unk> in every one of those countries.
So our pricing, while it's significantly higher than UC seats.
Buybacks higher.
It's very competitive in the market and then by combining it with UC. So it's competitive standalone just.
Straight up but when you combine that also with UC you get all of the lower cost of ownership by having like a single integration to manage with things like teams or sales force or other integration.
<unk>.
And.
Easier to deploy and manage so much lower total cost of ownership than anything else in the market.
And then on gross margins I get your point I would tell you I think it's not just because of who we are is that the right way to think about it. So if you think about my service revenue margins of 74, 1% and that includes relatively lower margin C pass.
So I'm basically getting very similar margins between might you see in <unk> business and I think thats because ex cast works right. It's one platform.
To spread our carrier connect cost and our cost to cross that one platform and I think it just it sort of a scale thing and it works and so I don't really see substantial difference.
<unk> gross margins between the two products, but it's also to be fair hard because there are integrated but.
But I think because of our integrated.
We just are going to see a big difference.
And just to follow up on a prior question help me think through steady state organic growth rate.
Other levers you can kind of pull to reaccelerate to call. It double digits or just should we think about it going forward is just a highly efficient single digit story.
No we're not we're not giving up.
Our goal of being double digit grower I think right now we have a currency headwind that causing suppression and we're focused on pivoting to more.
Cash and that has some consequences associated with it also.
I think if we were really focused on being a single digit grower, we would probably reduce our R&D spending and we're not we continue to invest very aggressively in R&D, we hit our 15% goal that we've been trying to achieve for a while this quarter and so I think the next leg will be based on innovation.
And those kinds of things to reignite.
Reading at a higher growth rate and maybe just maybe the dollar weakening a little bit would help me also.
Okay. Thank you guys.
Thank you thank.
Thank you.
Our next question today comes from the line of James Breen from William Blair. Please go ahead. Your line is now open.
Thanks for taking the question just a couple one on growth and just sort of think about across your segments in small mid and large enterprise.
Color on how much of the growth coming from existing customers versus new customers.
Differ amongst those groups and then a little bit in relation to the.
Question on sort of M&A and consolidation any changes in the environment are you seeing some of the smaller players just not show up as much because they don't have the funding available too.
Thanks.
I'll take the first part in either one of US can go on.
On the second part.
Let's go to the first six workforce right. So on competitive environment, I would say not radical changes, but in the end. It was still look at us versus those guys up in Belmont.
The two big players that we see most of the time.
And yes, I think the smaller players are running into trouble. It's less so on that this quarter next quarter, but I think theyre going to fall behind on innovation. We're using this downturn to continue to invest in our innovative funnel inflow and people are going to have to step up and continue to invest to keep up with people like us and so I think thats, where youll see.
That thing diverge over time.
And then I'm.
Im sorry, I spacing.
Yes installed base for new.
We do about half of our bookings from this splits about 50 50, and we have even greater emphasis on installed base as we have a great cross sell products with contact center things like conversation IQ. So that's been a focus of the organization as we improve sales and marketing efficiencies.
We will continue to do that and I think our customers have been more receptive as we've improved our product reliability and customer support elements.
And with the innovation, we are getting on contact center. It all goes hand in hand.
Sure.
Great. Thanks.
Thank you.
The next question today comes from the line of Ryan Koontz from Needham <unk> Company. Please go ahead. Your line is now open.
Great. Thanks for getting me in.
I wanted to circle back to your comment about direct routing versus operator connect there.
How you frame up that competitive threat. It looks like operator connect is a little more integrated to the selection process admin panels and on boarding and how you think about the competitive environment there for the new operator connect.
Competitors. Thanks.
Mhm, yeah. The operator connect gives you like carrier connectivity direct reality and really allows you to apply.
Core routing PBX functionality to that and enhance the overall capabilities for adding voice to Microsoft teams. So it's truly a superior functionality solution.
And so our goal is to stay price competitive and we sell the value of that solution and we're doing things to continue to lower our costs, we talked about the XT SKU, we talked about the phone app. All those continue to have the superior capabilities that you get with da by Ey.
Platform and it's all X series. So it allows you to seamlessly integrate contact center users on top of that and really connecting your contact center into teams use is like a big pain point.
With us today.
Like operator connect doesn't solve that for you. So we think we have a tremendous number of advantages there and it just creates a much richer experience for the customers and what they get.
That's a good point. Thanks, thanks, so much I appreciate it.
Thank you.
Next question today comes from the line of Michael Funk from Bank of America. Please go ahead. Your line is now open.
Thank you for fitting me in a couple of if I could.
As you think about sequential revenue growth heading into fiscal 'twenty four.
One of the variables that you're most focused on the present, the most upside and downside risks to sequential revenue growth is that net revenue retention is the C. Past business is it SMB what are those variables, we should be thinking about.
And you sort of highlighted some of them right. So in terms of the sequential revenue growth FX right now number one.
I was utterly surprised by how the dollar reacted in and it doesn't I want to reiterate what I said in my script right. It doesn't affect our operating numbers, but it definitely affects our headline revenue performance because we have so many natural hedges in place.
The <unk> business was a big worry you 90 days ago, it's starting to stabilize here So I think.
Knock on wood, that's less of it as.
As I mentioned and you mentioned in previous calls SMB for US is a focus on efficiency and cash generation. So I think we've got our arms around that now.
So you mentioned things that are all potential sort of downside I just want to highlight the upside is we've got a number of new products coming out of the R&D final Assembly members, who bought fuze nine months ago. So we've had those design teams working for a number of Sprint's now so we've got new things coming out of the design funnel.
Over the next six and 12 months those are all positives we've been doing a lot of work on Microsoft with additional skus and pricing and packaging around those the Microsoft Channel partners that Dave mentioned in his script are always a big positive. So there is I think some go to market stuff around Microsoft teams it could be a positive and some new product innovation that could be a positive.
On a go forward basis.
Yeah.
Understood. Thank you and then on <unk>.
<unk> path.
Is that core to the buyer.
<unk> business, you know maybe not the best monetize.
She passed but is that something that might be non core you could lock too.
To get rid of at some point or is that core to the strategy going forward.
I think it's something we are evaluating I think the previous management team bought the company in 2019, it's a great business.
Got.
It's got good unit economics, when it's humming along.
It's not deeply integrated into the company I think the vision.
Back then and the vision today have diverged a little bit and so I think it's something we're assessing over time, but.
But I don't think we have no media plans in this environment to do anything along those lines right now I think it's get it back on its right footing and get it going in the right direction.
Okay. Thank you all for time.
Thank you Mike.
Our final question today comes from the line of will power from Baird. Please go ahead. Your line is now open.
Hey, guys. This is Charlie really gone through well thanks for getting me in today, just one quick one for me what are you seeing on the pricing front, maybe on a CPC basis relative to three months ago are you seeing any pressure on pricing, especially.
Mentioned there are some customers that are looking at elongated sales cycles or they may be pushing back on price at all when it comes time for renewal or just your customer conversations any any change in pricing appetite.
Well I'm not going to I mean in.
In this environment, everybody and we do it so everybody dickering about pricing at least one or two extra spin cycles.
And for all anybody Thats a supplier to me, yes, I held all your contracts to the last day of the quarter at 11, 59 before I would sign them.
So yes, I mean, I think we're seeing a little bit of aggressive I don't think it's related as much the competition as it's related to sort of the economic environment and.
On renewals if theres one statement I've heard a lot of is it can't hurt to ask so you've heard some of those kinds of things and so I don't think it's anything that we havent factored into the guidance and it's anything that we're not thinking about and working on and for US I think it's important in this type of environment <unk> been able to lower our costs.
And so we're very focused on making sure that we protect and grow our margins.
And part of that is when we get pressure from our customers. We're certainly the first guys to put pressure on our suppliers.
Okay. Thank you.
Thanks, Thanks Daily.
This concludes today's conference call. Thank you all for your participation you may now disconnect your lines.
Okay.
Okay.